Adjustable Rate Mortgages: Are They Still a Good Idea in the Current Market?

When variable rate mortgages first became an option, the prevailing fixed interest rates were astronomically high, making adjustable rates attractive. Back then, while these loans offered temporary lower rates, they also carried the risk of rates increasing, potentially surpassing fixed rates. Despite this risk, adjustable rate mortgages (ARMs) were often the only feasible path to qualifying for a mortgage during those times.

Now, with interest rates at an all-time low, deciding on whether an adjustable rate mortgage is the right choice is more nuanced. The decision hinges largely on your financial forecasts and market conditions, especially given the current high levels of inflation and predictions of rising interest rates.

Market Conditions and Interest Rates

Given the current high inflation and high cost of living, financial forecasts predict that interest rates will increase to curb inflation. In such a scenario, an adjustable rate mortgage (ARM) might not be the best option. The risk of rates rising could result in higher monthly payments, potentially straining your budget.

On the flip side, if inflation is low and rates are high, a variable rate ARM might provide an advantage, as rates could potentially decrease in the future. However, the current economic outlook suggests a likely increase in interest rates, making a fixed rate mortgage more appealing for many homebuyers.

When Adjustable Rate Mortgages Make Sense

ARMs can still be a viable option, particularly for individuals planning to sell or refinance their homes within a short period. The structure of ARMs typically includes an initial fixed rate period lasting 3 to 10 years, during which rates remain stable. This period can allow homeowners to build equity and earnings without the burden of rising interest rates.

However, as rates stabilize after the initial period, they could start to rise. If you plan to stay in your home beyond the initial fixed period, be prepared to either refinance or face potentially higher interest rates.

Predicting the Future: Rates Are Low Now, But They Will Rise

While interest rates are currently low, it’s essential to acknowledge that they are not likely to remain so indefinitely. Economic predictions suggest that rates will rise to combat inflation, making a fixed rate mortgage a conservative and potentially safer choice at this juncture.

This variable nature of ARM rates means that they can rise significantly over time. For instance, teaser rates—initially attractive low rates offered by lenders—can provide an opportunity, but also carry the risk of much higher rates in subsequent years.

Personal Situations and ARM Suitability

Financial decisions often require personal context, and in the case of ARMs, whether they are a good idea also depends on your specific circumstances. If you plan to sell or refinance your home before the teaser rate expires, an ARM could be beneficial. However, market conditions are unpredictable, and relying on an ARM can be risky.

ARMs and interest-only (IO) loan products were once ideal for investors, offering flexible payment options and potentially increasing returns. However, these products come with inherent risks and are not suitable for all homebuyers. For the average home buyer, a 30-year fixed-rate mortgage remains the safer, more reliable choice. This type of mortgage provides stability and the flexibility to make extra payments to pay off the loan early if desired, without the risk of refinancing costs.

In summary, while adjustable rate mortgages offer opportunities for short-term savings on home loans, the current high inflation and likely upcoming rise in interest rates make fixed-rate mortgages a more prudent choice for most homebuyers in the current market.